Fin622 Mid Term Current Paper (Dec 2010)
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Fin622 Mid Term Current Paper (Dec 2010)
mostly MCQ's are new
Only 3 mcq's are neumerical rest all papar is theoratical including long questions.
Define simple payback period and Discounted payback period. 3 M
Does value of a firm increased with increase in its proportion of debt financing. 3 M
The after-tax cost of debt is lower when the firm's tax rate is higher; therefore, the weighted average cost of capital (WACC) falls when the tax rate rises. Thus, with a lower discount rate, the firm must be worth more if its tax rate is higher." Explain why this argument is wrong? 5 M
how capital rationing can be a hurdle to choose an optimum level of capital investment. 5 M
Only 3 mcq's are neumerical rest all papar is theoratical including long questions.
Define simple payback period and Discounted payback period. 3 M
Does value of a firm increased with increase in its proportion of debt financing. 3 M
The after-tax cost of debt is lower when the firm's tax rate is higher; therefore, the weighted average cost of capital (WACC) falls when the tax rate rises. Thus, with a lower discount rate, the firm must be worth more if its tax rate is higher." Explain why this argument is wrong? 5 M
how capital rationing can be a hurdle to choose an optimum level of capital investment. 5 M
Fin622 Mid Term Current Paper (Dec 2010)
Question No: 32 (Marks: 5)
Why capital asset pricing model (CAPM) is more suitable to calculate the cost of equity as compared to dividend growth model? Discuss.
Using dividend growth model does not mean capital gains; investors can have their income return slowly and at low risk. Many companies have been using this method. If we summarize, its major points were;
• To invest a solid share
• To increase dividends annually
• To avoid inflation and
• Additional income each year
The CAPM on the other hand, tells us that investors demand a higher rate of return for riskier shares. CAPM proposed a higher rate of risks than dividend growth model. CAPM is a model for pricing an individual's security or a portfolio. The investor has a higher rate of risk since he invests in the form of assets. It is generally seen as a much better method of calculating the cost of equity than the dividend growth model (DGM) in that it explicitly takes into account a company's level of systematic risk relative to the stock market as a whole.
Question No: 29 (Marks: 3)
How stable dividend policy could increase the marketability of a firm's shares?
Stable dividend per share: look favorably by investors and implies low risk firm. it increases the marketability of firm's share. Cash flow can be planned as dividend amount can be ascertained with accuracy (aid in financial planning)
Question No: 30 (Marks: 3)
Differentiate between the single period capital rationing and multi-period capital rationing.
Single period capital rationing:
It is a situation where the company has limited amounts of funds in one investment period only. After that period, the company can access funds from various sources, e.g. issuing shares, borrowing from banks or issuing bonds.
Multi-period capital rationing:
When capital is in limited availability in more than one period and selection of projects cannot be made by ranking projects according to PI, this situation is known as multi-period capital rationing.
Question No: 31 (Marks: 5)
In the year ending January 2008, Wal-Mart paid out Rs.1,326 million as debt interest. How much more tax would Wal-Mart have paid if the firm had been entirely financed by equity? What would be the present value of Wal-Mart's interest tax shield if the company planned to keep its borrowing permanently at the 2008 level? Assume an interest rate of 8% and a corporate tax rate of 35%.
More tax in case of entirely finance by equity:
1326 million *35/100 =464 million
Present value of interest = 1326 million /1 .08
=1218.75 million
Why capital asset pricing model (CAPM) is more suitable to calculate the cost of equity as compared to dividend growth model? Discuss.
Using dividend growth model does not mean capital gains; investors can have their income return slowly and at low risk. Many companies have been using this method. If we summarize, its major points were;
• To invest a solid share
• To increase dividends annually
• To avoid inflation and
• Additional income each year
The CAPM on the other hand, tells us that investors demand a higher rate of return for riskier shares. CAPM proposed a higher rate of risks than dividend growth model. CAPM is a model for pricing an individual's security or a portfolio. The investor has a higher rate of risk since he invests in the form of assets. It is generally seen as a much better method of calculating the cost of equity than the dividend growth model (DGM) in that it explicitly takes into account a company's level of systematic risk relative to the stock market as a whole.
Question No: 29 (Marks: 3)
How stable dividend policy could increase the marketability of a firm's shares?
Stable dividend per share: look favorably by investors and implies low risk firm. it increases the marketability of firm's share. Cash flow can be planned as dividend amount can be ascertained with accuracy (aid in financial planning)
Question No: 30 (Marks: 3)
Differentiate between the single period capital rationing and multi-period capital rationing.
Single period capital rationing:
It is a situation where the company has limited amounts of funds in one investment period only. After that period, the company can access funds from various sources, e.g. issuing shares, borrowing from banks or issuing bonds.
Multi-period capital rationing:
When capital is in limited availability in more than one period and selection of projects cannot be made by ranking projects according to PI, this situation is known as multi-period capital rationing.
Question No: 31 (Marks: 5)
In the year ending January 2008, Wal-Mart paid out Rs.1,326 million as debt interest. How much more tax would Wal-Mart have paid if the firm had been entirely financed by equity? What would be the present value of Wal-Mart's interest tax shield if the company planned to keep its borrowing permanently at the 2008 level? Assume an interest rate of 8% and a corporate tax rate of 35%.
More tax in case of entirely finance by equity:
1326 million *35/100 =464 million
Present value of interest = 1326 million /1 .08
=1218.75 million
Fin622 Mid Term Current Paper (Dec 2010)
Question No: 31 ( Marks: 5 )
Differentiate between a bond's Coupon rate and its Yield to Maturity?
Yield-to-Maturity, or YTM, is the single discount rate applied to all future interest and principal payments. It will produce a present value equivalent to the price of the security. YTM is the rate of return estimated on a bond if it is held until the maturity date,
The coupon rate, or, more simply stated, coupon of a particular bond, is the amount of interest paid every year. It is expressed as a percentage of the face value. Basically, it is the rate of interest that a bond issuer, or debtor, will pay to the holder of the bond. Thus, the coupon rate determines the income that will be earned from the bond.
1. YTM is the rate of return estimated on a bond if it is held until the maturity date, while the coupon rate is the amount of interest paid per year, and is expressed as a percentage of the face value of the bond.
2. YTM includes the coupon rate in its calculation.
Question No: 29 ( Marks: 3 )
Why weighted average cost of capital (WACC) should be used as discount rate for
Analyzing the financial viability of a project?
The discount rate used to find out the PV of future cash flow is normally the WACC.
Question No: 30 (Marks: 3)
Suppose you have 40% of your portfolio invested in firm A, 30% in firm B, 20% in firm C, and 10% in firm D. You know that the betas for these firms are, respectively, 1.2, 1.4, 0.8, and 1.1. Calculate your portfolio beta.
Portfolio beta = XaBa + XbBb +XcBc + XdBd
Xa = portfolio invested in firm A
Ba = beta for firm A
Portfolio beta = (40% * 1.2) + (30% * 1.4) + (20% * .8) + (10%*1.1)
= .48 + 0.42 + .16 + .11 = 1.17
Question No: 31 (Marks: 5)
Differentiate between accounting breakeven point and economic break even point.
The difference between the accounting and economic break even is a cost factor known as opportunity cost of capital. In accounting break even we calculate the accounting earnings first and then deduct all the costs from earnings to reach at break even except the opportunity cost of capital that is invested in the project.
Economic break even suggests that when you deduct other cost from accounting earnings you should also deduct the cost of capital employed. A project having a positive EVA adds value to firm and a negative EVA reduces the firm's value
Differentiate between a bond's Coupon rate and its Yield to Maturity?
Yield-to-Maturity, or YTM, is the single discount rate applied to all future interest and principal payments. It will produce a present value equivalent to the price of the security. YTM is the rate of return estimated on a bond if it is held until the maturity date,
The coupon rate, or, more simply stated, coupon of a particular bond, is the amount of interest paid every year. It is expressed as a percentage of the face value. Basically, it is the rate of interest that a bond issuer, or debtor, will pay to the holder of the bond. Thus, the coupon rate determines the income that will be earned from the bond.
1. YTM is the rate of return estimated on a bond if it is held until the maturity date, while the coupon rate is the amount of interest paid per year, and is expressed as a percentage of the face value of the bond.
2. YTM includes the coupon rate in its calculation.
Question No: 29 ( Marks: 3 )
Why weighted average cost of capital (WACC) should be used as discount rate for
Analyzing the financial viability of a project?
The discount rate used to find out the PV of future cash flow is normally the WACC.
Question No: 30 (Marks: 3)
Suppose you have 40% of your portfolio invested in firm A, 30% in firm B, 20% in firm C, and 10% in firm D. You know that the betas for these firms are, respectively, 1.2, 1.4, 0.8, and 1.1. Calculate your portfolio beta.
Portfolio beta = XaBa + XbBb +XcBc + XdBd
Xa = portfolio invested in firm A
Ba = beta for firm A
Portfolio beta = (40% * 1.2) + (30% * 1.4) + (20% * .8) + (10%*1.1)
= .48 + 0.42 + .16 + .11 = 1.17
Question No: 31 (Marks: 5)
Differentiate between accounting breakeven point and economic break even point.
The difference between the accounting and economic break even is a cost factor known as opportunity cost of capital. In accounting break even we calculate the accounting earnings first and then deduct all the costs from earnings to reach at break even except the opportunity cost of capital that is invested in the project.
Economic break even suggests that when you deduct other cost from accounting earnings you should also deduct the cost of capital employed. A project having a positive EVA adds value to firm and a negative EVA reduces the firm's value
Fin622 Mid Term Current Paper (Dec 2010)
Question No: 1 ( Marks: 1 ) - Please choose one
Which of the following statements is TRUE regarding Profitability Index?
► It ignores time value of money
► It ignores future cash flows
► It ignores the scale of investment
► It ignores return on investment
Question No: 2 ( Marks: 1 ) - Please choose one
The employment of fixed costs associated with the actual production of goods or services is known as:
► Financial leverage
► Volume discounting
► Operating leverage
► Covariance
Question No: 3 ( Marks: 1 ) - Please choose one
Which of the following statements is CORRECT regarding the fundamental analysis?
► Fundamental analysts use only Economic indicators to evaluate a stock
► Fundamental analysts use only financial information to evaluate a company's stocks
► Fundamental analysts use financial and non-financial information to evaluate a company's stocks
► Fundamental analysts use only non-financial information to evaluate a company's stocks
Question No: 4 ( Marks: 1 ) - Please choose one
ABC Corporation declared 10% dividend on its shares. A person purchased some shares of this corporation after the dividend was announced. If he is entitled to receive the declared dividend, his shares would be categorized as which of the following?
► Ex-Dividend
► Cum-Dividend
► Stock- Dividend
► Cash Dividend
Question No: 5 ( Marks: 1 ) - Please choose one
Which of the following firms would have the highest financial leverage?
► A firm having debt-to-equity ratio of 30:70
► A firm having debt-to-equity ratio of 40:60
► A firm having debt-to-equity ratio of 50:50
► A firm having debt-to-equity ratio of 60:40
Question No: 6 ( Marks: 1 ) - Please choose one
Which of the following types of bonds pays no annual interest to the holder, but is sold at discount below the par value?
► An original maturity bond
► A floating rate bond
► A fixed maturity date bond
► A zero coupon bond
Question No: 7 ( Marks: 1 ) - Please choose one
What will be the effect of reduction in the cost of capital on the accounting break-even level of revenues?
► It raises the break-even level
► It reduces the break-even level.
► It has no effect on the break-even level.
► This cannot be determined without knowing the length of the investment horizon.
Question No: 8 ( Marks: 1 ) - Please choose one
Which of the following risks increases as the debt level of a business increases?
► Financial risk
► Operating risk
► Business risk
► Investment risk
Quiz no.9
Which of the following is a transaction of a primary financial market?
► Initial Public Offering
► Buying Mutual Funds Certificates
► Selling old shares
► Buying Bonds issued in previous years
Question No: 10 (Marks: 1) - Please choose one
A firm had an interest expense of Rs.400,000 on its outstanding debt during the financial year 2006-2007. If the firm marginal tax rate is 40%, what was the total tax savings of the firm during the period 2006-2007?
► Rs.150, 000
► Rs.160, 000
► Rs.170, 000
► Rs.180, 000
Question No: 11 (Marks: 1) - Please choose one
Which of the following are the primary sources of capital to the firm?
► Net income, Retained earnings and Bank loans
► Bonds, Preferred stock and Common stock
► Operating profits, extraordinary gains and Dividends
► Amortization cash flow, Net income and Retained earnings
Question No: 12 (Marks: 1) - Please choose one
Which one of the following costs should be ignored while evaluating the financial viability of a project?
► Initial cost
► Equipment cost
► Cost of capital
► Sunk cost
Q 1.Why the weighted average cost of capital of levered firm is lesser than the un-levered firm? Briefly describe. Marks 3
Q 2.What is the difference between systematic and unsystematic risk? Marks 3
Q 3.Compare and contrast the Stable Dividend per share policy and Constant dividend payout policy. Marks 5
Q 4.How does the probability analysis evaluate the financial feasibility of a project? Marks 5
(note; the answers of MCQ's are in bold form)
Which of the following statements is TRUE regarding Profitability Index?
► It ignores time value of money
► It ignores future cash flows
► It ignores the scale of investment
► It ignores return on investment
Question No: 2 ( Marks: 1 ) - Please choose one
The employment of fixed costs associated with the actual production of goods or services is known as:
► Financial leverage
► Volume discounting
► Operating leverage
► Covariance
Question No: 3 ( Marks: 1 ) - Please choose one
Which of the following statements is CORRECT regarding the fundamental analysis?
► Fundamental analysts use only Economic indicators to evaluate a stock
► Fundamental analysts use only financial information to evaluate a company's stocks
► Fundamental analysts use financial and non-financial information to evaluate a company's stocks
► Fundamental analysts use only non-financial information to evaluate a company's stocks
Question No: 4 ( Marks: 1 ) - Please choose one
ABC Corporation declared 10% dividend on its shares. A person purchased some shares of this corporation after the dividend was announced. If he is entitled to receive the declared dividend, his shares would be categorized as which of the following?
► Ex-Dividend
► Cum-Dividend
► Stock- Dividend
► Cash Dividend
Question No: 5 ( Marks: 1 ) - Please choose one
Which of the following firms would have the highest financial leverage?
► A firm having debt-to-equity ratio of 30:70
► A firm having debt-to-equity ratio of 40:60
► A firm having debt-to-equity ratio of 50:50
► A firm having debt-to-equity ratio of 60:40
Question No: 6 ( Marks: 1 ) - Please choose one
Which of the following types of bonds pays no annual interest to the holder, but is sold at discount below the par value?
► An original maturity bond
► A floating rate bond
► A fixed maturity date bond
► A zero coupon bond
Question No: 7 ( Marks: 1 ) - Please choose one
What will be the effect of reduction in the cost of capital on the accounting break-even level of revenues?
► It raises the break-even level
► It reduces the break-even level.
► It has no effect on the break-even level.
► This cannot be determined without knowing the length of the investment horizon.
Question No: 8 ( Marks: 1 ) - Please choose one
Which of the following risks increases as the debt level of a business increases?
► Financial risk
► Operating risk
► Business risk
► Investment risk
Quiz no.9
Which of the following is a transaction of a primary financial market?
► Initial Public Offering
► Buying Mutual Funds Certificates
► Selling old shares
► Buying Bonds issued in previous years
Question No: 10 (Marks: 1) - Please choose one
A firm had an interest expense of Rs.400,000 on its outstanding debt during the financial year 2006-2007. If the firm marginal tax rate is 40%, what was the total tax savings of the firm during the period 2006-2007?
► Rs.150, 000
► Rs.160, 000
► Rs.170, 000
► Rs.180, 000
Question No: 11 (Marks: 1) - Please choose one
Which of the following are the primary sources of capital to the firm?
► Net income, Retained earnings and Bank loans
► Bonds, Preferred stock and Common stock
► Operating profits, extraordinary gains and Dividends
► Amortization cash flow, Net income and Retained earnings
Question No: 12 (Marks: 1) - Please choose one
Which one of the following costs should be ignored while evaluating the financial viability of a project?
► Initial cost
► Equipment cost
► Cost of capital
► Sunk cost
Q 1.Why the weighted average cost of capital of levered firm is lesser than the un-levered firm? Briefly describe. Marks 3
Q 2.What is the difference between systematic and unsystematic risk? Marks 3
Q 3.Compare and contrast the Stable Dividend per share policy and Constant dividend payout policy. Marks 5
Q 4.How does the probability analysis evaluate the financial feasibility of a project? Marks 5
(note; the answers of MCQ's are in bold form)
